Martha Stewart was famously accused of insider trading in the early 2000s, but she didn't face criminal insider trading charges.
Instead, Stewart was found guilty and went to prison for obstruction of justice, conspiracy and making false statements. This prosecutorial choice may have been due to how the law is written.
"It is incredibly difficult to prove an insider trading case," said Daniel Taylor, a forensic accounting professor at the University of Pennsylvania. "Congress has never actually defined what insider trading was and explicitly outlawed it."
"Insider trading is judge-made law," said John Reed Stark, former head of the Office of Internet Enforcement at the Securities Exchange Commission. "There's no definition of insider trading."
The SEC adopted an amendment to a rule that will "enhance investor protections against insider trading."
The Department of Justice prosecuted the first insider trading case exclusively based on the rule in March 2023.
The burden of proof for a criminal case requires proving intent.
"It is incredibly difficult [to prove intent] without some smoking gun of epic proportions, like an email that says, 'hey, we're going to manipulate this stock this week, let's all get the gang together,'" said Stark.
Sometimes intent is even unclear to the person engaging in the market abuse.
"One of the biggest reasons people go to trial or do not agree with their plea agreement with the United States government is because they'll say, 'I did not have bad intentions. I didn't mean to do this. I was swept into this,'" said Justin Paperny, co-founder and director of White Collar Advice.
Paperny pleaded guilty to one count of conspiracy to commit securities fraud in 2007. After serving time in federal prison, he now guides those accused of white-collar crimes through the investigation.
"The biggest thing that our team hears every single day: 'I've been indicted for a white-collar crime. Why? I did not have bad intentions.' The government cares about the result. What did your action lead to? Victims' losses and pain. Too many defendants are unable to reconcile and understand that."
Despite the high burden of proof prosecutors must meet to get a conviction, Paperny says the criminal justice system leans in the government's favor. Many defendants feel pressure to plead guilty out of fear of getting a harsher sentence if they lose at trial, he said.
"In my experience, it has not been hard for the Department of Justice to prove cases," Paperny added. "I would argue the DOJ is not going to bring a case unless they know they can win. ... Even when it's dubious or they're unsure and they bring a case, as we know, the lion's share of defendants plead guilty."
Activist investors
Investigations can get more complicated when activist investors are brought into the mix.
An activist investor is typically a high-profile firm that buys a stake in a public company it deems undervalued with the hopes of influencing governance or corporate strategy. Ultimately, the investor wants to raise shareholder value and make changes that result in share price appreciation.
"Any time you do anything, if you're a public figure and you're an activist investor, you're going to be scrutinized, you're going to be reported to authorities, you're going to be subjected to all sorts of conspiracy theories," Stark said.
Activist investors may be more involved with the board of directors of the company, which could raise questions about whether that investor could have access to nonpublic information.
The timing of disclosures is crucial for an investigation.
"[Activist investors] seem to be very sophisticated in the legal requirements that they have," Stark said. "These are very complicated situations when you're trying to figure out exactly what you have to disclose and when, because on the one hand, you're disclosing that you're selling, which is going to really hurt the company and which will thrust all this attention on you when there's no law that says you can't sell your stock."
"Having worked at the SEC in the enforcement division for almost 20 years, the one thing I can say for certain about every SEC investigation is that nothing is ever certain," Stark said.
Watch the video above to learn more about what insider trading is and why it's so hard to stop.
